European Central Bank: “There is no silver bullet for this crisis”

The ECB Governing Council decided yesterday to leave interest rates unchanged, as expected. Mario Draghi, President of the European Central Bank, leaked however to the press that a few members were in favour of a rate cut. His assessment of the economic situation was slightly more bearish than one month ago. The euro area appears “weak, with heightened uncertainty, […] giving rise to increased downside risks to the economic outlook”, Draghi said, even if he considers this acknowledgement is softened by the fact that the economic slowdown in Q2 is visible only in soft data at this stage.

Nevertheless, the Governing Council of the ECB announced during the press conference that it has decided to continue to conduct the weekly (MRO) and one-month liquidity supply operations with full allotment (unlimited liquidity supply) as long as necessary and at least until the end of 2012. 3-month LTROs will also be conducted with full allotment at least until the end of 2012.

Mario Draghi was questioned on the possibility of reactivating the SMP (sovereign bond buying programme) or a third 3Y LTRO. He did not excluded the possibility of these actions but refrained from giving any clear guidance. Nevertheless, he stressed much less than on previous occasions the necessity to wait and see before assessing the impact of the two 3Y LTROs. This could be an indication that the Governing Council is probably less split by an uncompromising opposition to such measures by German representatives and affiliates.

Mario Draghi took the opportunity to stress the ECB’s vision to solve the European crisis. He said that there is no silver bullet and that the recipe lies not in urgent measures but in medium-to long-term reforms:

a) Structural reforms:
1. Improving labour market functioning;
2. Improving competition;
3. Fiscal adjustments through the reduction of current expenses and not increased taxes or cuts in investment.

b) A clear vision for the future of the euro in order to restore confidence.

In terms of new possible monetary measures, nothing spectacular emerged from the press conference. Clearly all European institutions are working hard to prepare for the EU summit on 28 & 29 June. Announcements are adjourned until after the Greek elections of 17 June. In the meantime, financial markets are likely to remain highly volatile. The euro should remain under pressure and Bunds will be favoured.

Mario Draghi was also asked about the possibility for the ESM to recapitalise banks directly (instead of going through governments). In his answer, he contested Angela Merkel’s traditional argument as he does not see this as incompatible with conditionality. For him, it is possible to combine conditionality, even at the government level, with a direct recapitalisation by the ESM. For Mario Draghi, the problem lies more in the specific features of the ESM; it was not designed to become a bank shareholder. Thus, the ESM treaty would have to be redesigned in order to allow the ESM to recapitalise banks directly.


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